Table of Contents

Issuing in the Internet Financial System



The SOX model of Transactions

What is SOX?

SOX stands for Systemics Open Transactions which more or less says it all. Systemics wrote it to do Transactions, and it is Open because the intention is to publish everything, when we get time to do that.

For a more general discussions, see the local SOX Page , or the WebFunds' SOX Page .

The Ricardian Contract

What is this Ricardian Contract?

The Ricardian Contract is the technical means by which we identify particular types of value within the system. It is directly instantiated in a single document that resembles a mix of paper contract terms and technical fields. This electronic document forms the focal point for the governance in the issuance of an electronic instrument.

Fundamentally, a Ricardian Contrat is a contract, in the normal legal sense. On top of the requirements for a contract, a Ricardian Contract adds in some special fields that help the software deal with the contract.

As a document, it strives to be both human-readable and machine-readable. This goal is set in order to ensure that both humans and software are working from exactly the same set of information. This is such a worthwhile goal in systems terms, that the complication of mixing the two is believed to be worthwhile.

In addition to a straight legal contract, it includes these key components:

The fields of the contract are documented in more detail in The Digital Financial Instrument.

Who are the parties to a Ricardian Contract?

The first party to a Ricardian Contract is always the Legal Issuer, sometimes known by the cryptographic persona of Ivan. He offers the contract, by dint of a digital signature on the bottom of the contract.

There are generally many second parties to each Ricardian Contract. These are the holders of the units of value in the contract. If the contract was issued to provide dollars, then each holder of dollars would be a second party to the contract.

The second party (sometimes known as Alice) enters the contract when she creates a sub-account and deposits the value of that contract into her account. The act of signing a request that specifies the contract creates an acceptance of the contract. Alice enters into the contract to the extent of the amount of value she holds, on the date of each receipt of value.

In practice, these complex actions are managed for her by her client software. In general, Alice sees that she has value, and she makes payments in that value. Her viewpoint of the system is more or less similar to her viewpoint of notes and coins in her purse: she either has them or she doesn't.

The complex contractual implications are untested in any courts, and are being developed on a customary basis.

What sorts of Ricardian Contract exist?

The Ricardian Contract is a relatively open concept. At the time of writing, the Webfunds open source project implements the following:

In principle many other types are possible, although the system is designed for financial instruments.

How is it used in practice?

Once the Legal Issuer agrees to the contents, the document is digitally signed by the contract signing key of the Legal Issuer. This signature is evidence of the Legal Issuer's committment. [Digital Signature Law]

Now the contract is formed in its final state. It is distributed to the various Users and the servers of the Technical Issuer. Each program in the system reads the contract, and takes a message digest (or, informally, hash ) of the contents. This hash has the property that if one byte of the contract changes, the hash must change, so it forms a suitable identifier for the contract.

Programs in the system, especially the user client and the issuer servers, will now communicate using SOX transactions that include the hash. The Ricardian Issuance Server then accounts for units of the hash, thus creating an issuance of a financial instrument.

What is a digital currency backed by?

A digital currency would often be backed by deposits held at a conventional repository. These deposits might be one-for-one with issued digital asset, depending on the contract. See the Governance FAQ for more discussion on asset strategies.

How is the value protected?

There are two major threat classes - internal and external. Insider fraud is the greater threat to a running business, statistically, although it plays a part generally later on.

Issued Value Security

Security of an asset is the responsibility of the Legal Issuer.

To protect a system from internal threats, traditionally the larger danger to successful businesses, an Issuer employs the techniques of Governance. This is layer 5 in the 7 layer model of Financial Cryptography and is discussed in more depth in its own FAQ on Governance.

In brief, he generally contracts with a Mint to secure the creation of new value, and thus the Mint takes on responsibility for ensuring that the total value is contained.

The Issuer also signs up a Ricardian Issuance Server Contractor, an entity that runs an Issuance Server. This entity is responsible for ensuring that the numbers are correct. That is, as transfer requests are accepted, the amounts requested are moved from account to account.

Law

IANAL. This is Internet jargon for I am not a lawyer, and therefore not qualified to render professional advice on matters legal. This section should be treated as mere speculations of a layman, and likely would be considered immoral or downright dangerous, depending on your legal environment. Pursue at your own risk and seek professional advice before acting on any suggestions contained herein.

Which Law Applies to the Contract?

This is a decision for the principal issuer to make. There are no hard and fast rules, just hard and fast fees. In general, the law as specified in the contract should apply.

So far, all contracts have chosen English common law. This may be because novel contracts are plausible and will be upheld, within reason, whereas civil law may be less kind.

One note: not having a clause defining the law of the contract will be more expensive in a dispute. Both parties will fight to get their best choice law. It is well worth defining the law upfront.

The following sections discuss different environments or spaces of law under which your contract might fall, and should form a guide for your more rigourous investigation.

Legal Contract in Your Jurisdiction

The legal jurisdiction in which you are located might be a plausible first choice.

For example, head down to your local lawyer, and get him to say, "it's good." This will mean your local courts, your local stamp duties and taxes and, if push comes to shove, your local police.

There are difficulties, however. An Internet-based system is inherently non-jurisdictional. Users in your system are unlikely to want to travel to your home town in order to sue, and even when they get there, it is unlikely that the local lawyers actually know enough about the context in order to handle the case.

Other Party's Jurisdiction

You could choose for any dispute, instead, the jurisdiction where each party that you contract with is located.

This has all the shortcomings of the above, with the added fact that we now have multiple, distant jurisdictions, rather than only one, and a separate contract with the customer base in each jurisdiction.

Legal Contract in Knowleadgeable Jurisdiction

An alternate is to pick a jurisdiction that has experience in this sort of case.

Unfortunately, these are still early days, and only one case has arisen to discuss the Ricardian contract in any depth. That case was heard under the law of Anguilla, East Caribbean.

Diseconomies of Scale

There are further difficulties among the many different legal traditions, including English Common Law, Roman Civil Law, Islamic Law, etc. When international trade was predominantly the purview of governments, large industrial firms, and wealthy indivuduals, these hurdles were cleared through the use of lawyers conversant in the relevant systems.

However, on the Internet -- given the extreme reduction of the barriers to entry -- the size of the contracting entities is fast approaching the individual level, and the transactions involved will be measured in fractions of pennies, once micropayment systems become viable.

Imagine two teenage programmers, still at home with their parents -- one in France, the other in New Zealand -- cooperating on a program that has the potential to make each of them worth millions, even though they are both unemployed, and conducting all negotiations via email. Traditional legal mechanisms relevant to international business contracts, research and development taxation, and information regulation, are simply too expensive to have any utility here.

One thing is clear: these two programmers will not simply shrug their shoulders and abandon the project. Therein lies the interesting part of this puzzle.

These two will continue to work and to cooperate in the complete absence of any real legal foundation. Sure, in theory, there are applicable laws here, but they are as good as useless when the solution to a dispute is lawsuit.

Exxon can sue British Petroleum. 12-year-old Cedric in New Zealand cannot sue 13-year-old Jean Pierre in France. Not in any real sense.

Digital Signature Laws

In the experience of some, those US states that rushed through Digital Signature laws have now found themselves needing to redraft. The smart states appear to be those who took a bit more time, and eventually, the laws that have been drafted in have been extremely limited to just stating that a digitial signature is as valid evidence for presenting to a court as a handwritten signature is.

For our purposes, the selection of jurisdictions that have implemented laws on the subject is therefore not a good guide.

Iceland

Expertise in Law, Contracts and the Internet is concentrating in Iceland to order to form the Internet Court. It is too early to say whether this will make Iceland an ideal jurisdiction, but certainly the intentions of the founders are aligned with that goal.

In particular, the Internet Court intends to rely on private arbitration and alternative dispute resolution mechanisms. Virtually all national governments -- and certainly those of all "wired" nations -- have ratified the 1958 UN Convention on the Recognition and Enforcement of Foreign Arbitral Awards.

A small, high-income OECD nation, Iceland is a member of the European Economic Area but it is not a member of the European Union, and thus not directly subject to the European Commission's rules.

Icelandic professionals typically study abroad, either in Northern Europe or the USA, and are conversant in both systems. This makes it relatively easy to recruit arbitrators there.

While the same can be said of other countries, the Icelanders have a historical advantage of being located "outside" of the East and West Atlantic centres of gravity, and are thus more accomodating of divergent perspectives.

Forum of Dispute

In general, there are these ways in which a dispute can be resolved:

In approximate order of increasing severity.

Mediation and Arbitration

Arbitration and mediation are alternatives to a state-sponsored courts with a tradition that dates back at least to Florentine Italy, in the form of Lex Mercatoria: the system of private courts favored by ship owners today.

Parties can agree in advance to take recourse in this fashion, and can prepare strategies for chosing the third parties who assist in these protocols.

Some observers believe that these forms of dispute resolution are ideal for the Internet. It is not entirely clear yet whether this is the case, but the topic bears monitoring.

The CSEI sponsors an annual conference called Lex Cybernetoria which investigates emerging models.

Arbitration

It is increasingly common for international contracts to have binding arbitration clauses. Courts of law will generally uphold these clauses, and refer any case that substantially intended so to arbitration.

In picking Arbitration it is important to pick the location of the forum so that the panel of arbitrators can be chosen. Next, the selection of the arbitration panel should also be addressed. Finally, the rules of the Arbitration should be selected, generally in concert with the body of arbitration.

Internet Convention

This means, basically, the absence of geographical jurisdictional law, but the application of Internet rules, customs, conventions. Now, some might not call this very strong, but don't be fooled by the difference between strength and flexibility.

The Internet generally has to say something about all sorts of issues, and on the issue of electronic commerce, there is one unwritten rule: do the right thing, or your reputation will go down the tubes. Do the wrong thing, and you will be hounded by the self-appointed guardians of Internet sanctity.

Such an approach is generally derided by those outside, but it has worked well to date. What should however be mentioned is that it has not really been applied whole-heartedly to real money transactions. So tread with care.

Who Owns an Asset?

The holder of the private key is the one recognised as having the strongest claim on the asset.

The asset is instantiated as an account within the system. The account is controlled by the private key which is required to sign important requests (primarily, creation, payments and mail, but not deposits of signed payments). Whoever has access to the private key has claim to the account.

The system only recognises the property of ownership via the private key: whoever has the private key is the owner, and the owner has full access to the funds.

Escheatment

The handling of transfer of assets to an Estate are similar to those of lost key, above. If the account can be identified, and the Legal Issuer can be made satisfied of the circumstances, then some form of recourse is possible.

The precise form of recourse depends on many things, including but not limited to:

For important amounts, the asset owner is advised to look into these matters.

References

Digital Signature Law Whether the signature is accepted as evidence in any court is dependant on how advanced the jurisdiction is in making law that accepts digital signatures as useful evidence. In cryptography circles, we say that the digital signature is cryptographically strong, which implies that within the technical bounds of the subject, the signer must have made the signature. However, this might have no legal standing if a court declines to accept any such statement as evidence. Back.

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